Is the West Taking Putin Seriously?

The Ukraine mess keeps getting messier. And this debacle isn't over yet, so things could get downright ugly before Russia is done meddling. The United States and Europe have publicly taken a "hard" line, including a recent round of sanctions directed right at Russia's heart—its energy industry. However, a deeper read of the sanctions reveals that there's more bark than bite in these words.

Russia isn't exactly a friend to Western countries like the United States and most of Europe. The relationship has long been a tense one, with Russia getting what it needs (money) in exchange for the plentiful reserves of oil and natural gas it has. So long as Russia doesn't upset too many people, everyone is willing to pretend to be friends.

However, after annexing Crimea and pushing for change in Ukraine, Europe is in a bind. It can't simply allow Russia to do whatever it wants to sovereign nations, but it still needs oil and natural gas. And since it looks like Russia isn't done with Ukraine, Europe and the United States did what they do best, they wrote a stern letter—in the form of sanctions.

Russia and Europe have a mutually beneficial relationship built around energy. Europe is the end destination for around 80% of Russia's oil exports and 75% of its natural gas exports. Moreover, major European and U.S. energy companies have big-money deals with Russia, including such household names as ExxonMobil (NYSE: XOM  ) , BP (NYSE: BP  ) , and France's Total (NYSE: TOT  ) .

No one likes what Russia is doing, but no one has a major incentive to rock the boat, either. That's why months of discussion took place before sanctions were put in place. Oh, and it's also why there still aren't material sanctions in place. Sure, on the surface, it looks like the slap on the wrist has real teeth, since it's aimed at Russia's energy industry, but that's just a facade.

All bark, no bite
For example, the sanctions don't impact Russia's natural gas industry. That means that Europe can still count on Russia for the roughly 30% of its gas needs that get imported from the country. Why be so soft on Russian gas? Well, about half of that gas flows through...Ukraine. And while Russia has been wielding its energy stick against Ukraine, cutting off the nation's gas supplies, it has ensured that enough gas flows to supply Europe. Obviously Russia doesn't want to overturn the apple cart, either.

Source: EIA

OK, so natural gas is off the table, but the sanctions will hit Russia's oil industry. Or not... The wording of the sanctions allows for existing relationships to continue without impact. That includes services and supplies on projects "arising from a contract or an agreement" concluded before August first. That's a pretty big loophole to appease Russian partners like Exxon, BP, and Total. And it ensures that Europe will keep getting the oil it needs, too.

So why bother with what amounts to little more than political theater? For starters the rest of the world can't just sit back and watch the Ukraine drama unfold. The United States and Europe had to do something, even if that something was for show. And right now, that looks like all it's about.

However, the wording of the sanctions is open for interpretation. Right now it's likely to be used as a way to allow the continuation of the status quo. But if Russia keeps moving down an undesirable path, at least to the rest of the world, the sanctions could be used to inflict real economic damage on Russia's energy industry while an even tougher set of sanctions gets drafted.

In Europe's dreams
Clearly, Europe would like to see an amicable resolution to the Ukraine crisis. The sanctions are intended to convince you that a tough line has been drawn. But Europe and the United States are giving Russia plenty of leeway so that energy supplies into Europe aren't disrupted. That's good news for Europe and companies doing business with Russia. However, it begs the questions of how far Russia will go and at what point truly hard-line sanctions will be implemented or, worse, needed.

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  • Report this Comment On August 12, 2014, at 10:06 AM, rtichy wrote:

    Yes, the only entity that has a significant interest in breaking the pipeline is.... Ukraine!

    1) If there's no pipelines across Ukraine, Europe will be freed to be more confrontational with Russia, after the initial fury.

    2) Russia will have a lot less interest, after the initial fury, in the Ukraine.

    3) Ukraine probably cannot continue to weather the kind of situation it is in now, so changing the pipeline situation is the only way to imagine a future... after the initial fury.

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Reuben Brewer

Reuben Gregg Brewer believes dividends are a window into a company's soul. He tries to invest in good souls.

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